A Little Paradox in the Design of Regulatory Mechanisms
Several incentive mechanisms have been suggested in the literature to induce regulated monopolists to choose welfare-maximiz ing prices and cost levels for their services. Among the desirable pr operties of such mechanisms is that their application should be contr ollable by third parties ("verifiability"). A mechanism recently de signed by Sappington and Sibley (1988), incremental surplus subsidy, which is otherwise ideal in its properties, fails to be verifiable. A verifiable crude first-order approximation to this mechanism retains some, but lacks other, of the nice properties possessed by increment al surplus subsidy. This paper therefore analyzes closer (second-orde r) approximations to incremental surplus subsidy. Paradoxically, thes e approximations in a crucial sense are shown to perform worse than t he cruder approximation. Copyright 1988 by Economics Department of the University of Pennsylvania and the Osaka University Institute of Social and Economic Research Association.
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Volume (Year): 29 (1988)
Issue (Month): 3 (August)
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